Next Year's Tax Brackets

October 01, 2012

Introduction

The Bureau of Labor Statistics recently released its August 2012 consumer price index (CPI) figure. This number is typically the final piece of information needed to determine next year’s tax brackets, which are adjusted for inflation based on CPI figures from September to August of the previous year. Given that the CPI-U (consumer price index for all urban consumers) average for the previous twelve months is 2.57% higher than the previous year, we can expect tax year 2013’s parameters to be roughly 2.57% higher than 2012’s.[1]

Even though taxpayers will not start filing their 2013 tax returns until January 2014, tax year 2013 parameters are needed in advance of 2013 so that the IRS can produce instructions for 2013 income tax withholding, which will begin in January. Therefore, the inflation adjustments for any tax year must be based on CPI-U data from portions of the previous two years.

Projecting 2013’s brackets is more complicated than usual given the uncertainty surrounding the potential expiration of the Bush tax cuts (originally enacted in 2001 and 2003) and some more recent stimulus bill tax cuts (originally passed in 2009), but since tax parameters are adjusted for inflation in more or less the same way, the Tax Foundation can project next year’s parameters under a variety of scenarios with a high degree of certainty.

Brackets and Rates

Unless Congress acts, the marriage penalty relief, new 10% bracket, and marginal rate reductions enacted in 2001 and 2003 will expire at the end of the year. If that were to happen, next year’s brackets would look like this:

Table 1. 2013 Taxable Income Brackets and Rates Under Full Expiration of Bush Tax Cuts

Rate

Single Filers

Married Joint Filers

Head of Household Filers

15%

$0 to $36,250

$0 to $60,550

$0 to $48,600

28%

$36,250 to $87,850

$60,550 to $146,400

$48,600 to $125,450

31%

$87,850 to $183,250

$146,400 to $223,050

$125,450 to $203,150

36%

$183,250 to $398,350

$223,050 to $398,350

$203,150 to $398,350

39.6%

$398,350+

$398,350+

$398,350+

However, Republicans in Congress have proposed to extend the Bush tax cuts into 2013 in H.R. 8, the Job Protection and Recession Prevention Act of 2012.[2] If this bill were to become law, 2013’s tax brackets would be roughly 2.57% higher than 2012’s but otherwise the same:

Table 2. 2013 Taxable Income Brackets and Rates Under H.R. 8

Rate

Single Filers

Married Joint Filers

Head of Household Filers

10%

$0 to $8,950

$0 to $17,900

$0 to $12,750

15%

$8,950 to $36,250

$17,900 to $72,500

$12,750 to $48,600

25%

$36,250 to $87,850

$72,500 to $146,400

$48,600 to $125,450

28%

$87,850 to $183,250

$146,400 to $223,050

$125,450 to $203,150

33%

$183,250 to $398,350

$223,050 to $398,350

$203,150 to $398,350

35%

$398,350+

$398,350+

$398,350+

Another possibility is that President Obama’s 2013 budget is passed, which would allow the Bush tax cuts to expire only for upper-income taxpayers:

Table 3. 2013 Taxable Income Brackets and Rates Under President Obama’s 2013 Budget

Rate

Single Filers

Married Joint Filers

Head of Household Filers

10%

$0 to $8,950

$0 to $17,900

$0 to $12,750

15%

$8,950 to $36,250

$17,900 to $72,500

$12,750 to $48,600

25%

$36,250 to $87,850

$72,500 to $146,400

$48,600 to $125,450

28%

$87,850 to $183,250

$146,400 to $223,050

$125,450 to $203,150

33%

$183,250 to $203,600

$223,050 to $247,000

$203,150 to $227,300

36%

$203,600 to $398,350

$247,000 to $398,350

$227,300 to $398,350

39.6%

$398,350+

$398,350+

$398,350+

Standard Deduction and Personal Exemption

This year, the personal exemption is $3,800. Next year it will rise to $3,900 regardless of what happens with the Bush tax cuts.

The standard deduction for single filers is currently $5,950, and it will rise to $6,100 next year regardless of what happens with the Bush tax cuts. For married filers, it’s currently $11,900, and next year it will be $12,200 if the Bush tax cuts are extended and $10,150 if they aren’t.

Earned Income Tax Credit

A variety of different things could happen with the EITC.  This refundable credit for lower income working people was expanded both by the Bush tax cuts (by increasing the length of the “plateau” for married filers) as well as the 2009 stimulus bill (which added a new category for three or more children and increased the married “plateau” even further). H.R. 8 would extend only the Bush tax cuts expansion, whereas the Obama budget extends the stimulus bill expansions as well. 

Table 4. 2013 EITC Parameters Under Multiple Scenarios

   

Full Expiration

H.R. 8 (Republican Bill)

Obama Budget

   

Married Filing Jointly

Other

Married Filing Jointly

Other

Married Filing Jointly

Other

No Children

Credit Rate

7.65%

7.65%

7.65%

7.65%

7.65%

7.65%

Phase-out Rate

7.65%

7.65%

7.65%

7.65%

7.65%

7.65%

Plateau Starts At

$6,370

$6,370

$6,370

$6,370

$6,370

$6,370

Maximum Credit

$487

$487

$487

$487

$487

$487

Phase-Out Starts At

$7,970

$7,970

$11,390

$7,970

$13,310

$7,970

Phase-Out Ends At

$14,340

$14,340

$17,760

$14,340

$19,680

$14,340

One Child

Credit Rate

34%

34%

34%

34%

34%

34%

Phase-out Rate

15.98%

15.98%

15.98%

15.98%

15.98%

15.98%

Plateau Starts At

$9,560

$9,560

$9,560

$9,560

$9,560

$9,560

Maximum Credit

$3,250

$3,250

$3,250

$3,250

$3,250

$3,250

Phase-Out Starts At

$17,530

$17,530

$20,950

$17,530

$22,870

$17,530

Phase-Out Ends At

$37,870

$37,870

$41,290

$37,870

$43,210

$37,870

Two Children

Credit Rate

40%

40%

40%

40%

40%

40%

Phase-out Rate

21.06%

21.06%

21.06%

21.06%

21.06%

21.06%

Plateau Starts At

$13,430

$13,430

$13,430

$13,430

$13,430

$13,430

Maximum Credit

$5,372

$5,372

$5,372

$5,372

$5,372

$5,372

Phase-Out Starts At

$17,530

$17,530

$20,950

$17,530

$22,870

$17,530

Phase-Out Ends At

$43,038

$43,038

$46,458

$43,038

$48,378

$43,038

Three or More Children

Credit Rate

Same as credit for 2 or more children.

45%

45%

Phase-out Rate

21.06%

21.06%

Plateau Starts At

$13,430

$13,430

Maximum Credit

$6,044

$6,044

Phase-Out Starts At

$22,870

$17,530

Phase-Out Ends At

$51,567

$46,227

PEP and Pease

PEP and Pease are two provisions that phase out tax benefits for upper income taxpayers—PEP (Personal Exemption Phase-out) reduces the value of personal exemptions for high income taxpayers, and Pease (named for former Senator Donald Pease) reduces the value of itemized deductions. Both PEP and Pease were themselves phased out by the Bush tax cuts and fully disappeared in 2010; their absence from the tax code was continued through 2012 by the two-year extension of the Bush tax cuts in December 2010.  If the Bush tax cuts expire, both provisions would return next year. Obama’s 2013 budget also proposes their reinstatement but changes the income thresholds they would apply to.

Table 5. PEP Income Minimums

Filing Status

Tax Cuts Expire

H.R. 8 (Republican Proposal)

Obama Budget

Single

$178,150

-

$213,600

Married

$267,200

-

$267,000

Head of Household

$222,700

-

$213,600

Table 6. Pease Income Minimums

Filing Status

Tax Cuts Expire

H.R. 8 (Republican Proposal)

Obama Budget

Single

$178,150

-

$213,600

Married

$178,150

-

$267,000

Head of Household

$178,150

-

$213,600

Alternative Minimum Tax

The AMT is not indexed for inflation and must be “patched” from time to time by Congress. Currently, no patch is in place for 2012 (let alone 2013) though Congress will likely pass a retroactive patch at the end of the year before the IRS finalizes 2012 tax forms. Usually, the only AMT parameter that is patched each year is the exemption level; the boundary between the 26% and 28% brackets ($175,000) and the exemption phase-out thresholds ($112,500 for single filers, $150,000 for married filers) have remained constant for some time. H.R. 8 would set the AMT exemption at $50,600 for single filers and $79,850 for married filers; Alternatively, President Obama’s budget would permanently index the AMT for inflation using 2011 as a base year. Under this proposal the 2013 exemption would be $48,450 for single filers and $74,450 for married filers.

If the AMT is not patched at all, the exemptions would revert to year 2000 levels: $33,750 for single filers and $45,000 for married filers.

Appendix

How the IRS Calculates New Tax Parameters

When calculating the values for the next tax year's parameters, the IRS does not merely adjust the parameters based on inflation from one calendar year to the next. Instead, they have a somewhat complicated formula that involves a base-year amount for each parameter (typically the year it was first enacted) and an annual average CPI-U for the base year and the current year. The amount for the coming tax year is calculated by multiplying the base year amount by the ratio of the CPI-U in the current year to the CPI-U in the base year. It is then rounded (usually down) to the nearest $50 (or sometimes $10, depending on the parameter).

The calculation is further complicated by the fact that the CPI-U amounts used to calculate the next year's parameters are not simply the CPI-U averages for the relevant calendar years. Instead, for both the current year and the base year, the IRS must use the CPI-U average for the 12-month period covering September of the previous year through August of the current year. For example, the 2013 tax parameters will be based on the average monthly CPI-U from September 2011 through August 2012 (with the same method being used for the base year of the tax parameter to be adjusted). The ratio of these two averages (the current 12-month average divided by the base year 12-month average) is multiplied by the base year parameter amount to yield the next tax year's parameter.

Table A1: Monthly CPI-U For the Previous Two Years

Tax Year 2012 Adjustment

Tax Year 2013 Adjustment

Year

Month

CPI-U

Year

Month

CPI-U

2010

September

218.439

2011

September

226.889

October

218.711

October

226.421

November

218.803

November

226.23

December

219.179

December

225.672

2011

January

220.223

2012

January

226.665

February

221.309

February

227.663

March

223.467

March

229.392

April

224.906

April

230.085

May

225.964

May

229.815

June

225.722

June

229.478

July

225.922

July

229.104

 

August

226.545

 

August

230.379

 

Average

222.433

 

Average

228.149

For example, the CPI-U index for the purposes of calculating the 2013 tax parameters is 228.149 (Sept. 2011-Aug. 2012). The reference year for the personal exemption is 1989, a year in which the same statistic (based on Sept. 1987-Aug. 1988) was 116.617. The amount of the personal exemption in 1989 was $2,000. Therefore, the personal exemption amount in 2012 equals $2,000 times the ratio of 228.149 to 116.617, or $3,913. Rounding down the $3,913 figure to the nearest $50 yields a personal exemption amount for 2012 of $3,900.


[1] See Table A1 in the appendix.

[2] Job Protection and Recession Prevention Act of 2012, H.R. 8, 112th Cong. (2012), http://thomas.loc.gov/cgi-bin/bdquery/z?d112:h.r.8:.

 

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